Despite silver’s abysmal performance over the last four years, a rapid contraction in supply could send the grey metal to untold heights. China’s devaluation of the yuan is another factor at play, with many analysts believing it will push silver miners over the brink and into insolvency.
The precious metal is perennially undervalued. But we’ve seen an unusual amount of selling in the last four years. Investors fled commodities in favour of the stock market as the Federal Reserve dropped interest rates to historic lows. Trillions of freshly printed dollar bills were used to buy bonds—a strategic move by the central bank to stabilize asset prices.
The “easy money” policies worked wonders for a stock market rally. The S&P 500 shot up over a 63% since mid 2011, and the NASDAQ gained more than 90%. More specifically, the relationship between the money supply and the stock market is shown here:
As the monetary base expanded, so too did the value of the Dow Jones Industrial Average. It’s hardly rocket science; we printed money to prop up our financial markets.
What wasn’t anticipated was the capital flight from commodities. Such a dramatic exodus from precious metals is particularly worrying, as it implies an astonishing level of self-deception about the country’s economic health. American manufacturing is in the doldrums, unemployment remains high, and wage growth is stagnant.
These conditions hardly warrant a full-blown stock market rally. Yet that’s what we’ve seen.
China’s Devaluation Will Force Higher Silver Prices
Silver lost nearly 70% of its value since peaking in mid-2011 when the grey metal hovered just under $50.00 an ounce. Prices remained weak this year despite considerable geopolitical headwinds. Remember that Greece had a month-long showdown with its European creditors, posing an existential crisis to the eurozone, and we still didn’t see investors running for the hills.
But now, at long last, we are seeing some upward pressure on metals. Gold is up more than 3.5% in the last five days, and silver gained over six percent. As investors finally wake up to reality, they should heed this warning: start running now before you get trampled by the herd. The last ones to trade in their shares for hard assets like silver and gold will be the ones who suffer the biggest losses.
Oddly enough, China is the straw that broke the camel’s back. Rather than a U.S.-centric piece of news, fallout from China’s stock market crash is what spooked the market. After dropping more than 30% in a single month, the country’s central bank started printing money to prop up asset prices.
A principle effect of the stock crash was that investors took a closer look at China’s economic health. The country’s years of double-digit growth had long since ended, but most were still hoping that China would continue to propel global growth. To put it mildly, that’s not happening.
A Supply Squeeze Could Send Silver Prices Sky High
Another key factor in silver’s upcoming boom is the effect of prolonged stagnation. Even though silver prices were artificially depressed by quantitative easing, the effect on silver miners was all too real. Let’s take a look at Hecla Mining Company to illustrate my point.
Hecla Mining was responsible for 11.09 million ounces silver production last year. Like its peers, low prices are forcing Hecla to cut costs and streamline its operations, yet it needs to keep up production. Taking on new debt for expansion purposes would likely be seen as irresponsible. But a drop-off in revenue would likely hurt the stock price just as much.
It is quite the conundrum for miners, and it only gets worse when you look at the numbers. If you look at Hecla’s cost of production, there’s a deduction called “by-product credits.” After subtracting these out, the company arrives at a cost of $4.81 per ounce. But it’s unclear why the credit needs to be applied. A footnote describes the credits as units of cost associated with “physical activities of producing metals, including mining, processing and other plant costs, third-party refining and marketing expense, on-site general and administrative costs, royalties and mining production.” (Source: Hecla Mining Co., July 2015.)
How exactly would one operate a mining company without refining, marketing, or administrative costs? Those aren’t ancillary or one-time items, so I prefer to omit the by-product credits from my own valuation. Without them, Hecla’s production costs are closer to $25.00—and they’re a fairly large firm. Imagine smaller producers who don’t have such deep pockets trying to grapple with $15.00 silver. The operating environment is simply too harsh right now. And it has pushed miners into an unsustainable paradigm. Many will not survive.
The $2.00 Silver Stock Every Investor Should Own
That being said, the miners that survive the purge will be set for record gains. The stock market recovery was the product of a collective fantasy; we all wanted to believe it, but it was based on nothing at all. When the eventual collapse arrives, money will flow straight to silver, silver ETFs, and most importantly; the few remaining silver mining companies.
Of all the miners that could survive, there is one that we at Profit Confidential have carefully vetted. This is an inexpensive stock with 7.2 million ounces produced annually. And unbelievably, it still earns a profit. Click here now to get the full story.